What Will Apple Do With Its $137 Billion?

If the stock market were a social endeavor, Apple (NASDAQ: AAPL) would be the nouveau riche, or new money. While the company has $137 billion in the bank, this sum has been built up in a staggeringly fast time. In the past year alone, Apple has generated more than $47 billion in free cash flow.

In an article comparing Apple withExxonMobil, its big-oil nemesis for the crown of the world's most valuable company, I noted how Exxon is in a different category than Apple, having returned a staggering $265 billion to shareholders over the past decade. More than $75 billion of that amount was in dividends alone. Exxon's the old money, having existed in one form or another since 1882 and having a history of 30 straight years of dividend raises.

Yet with a very slight decline in earnings per share last quarter and a forecast for a larger fall-off in earnings next quarter, Apple is finding investors clamoring for it to accept its new reality of lower growth and act like its old-money peers. So let's look at Apple's recent history at giving capital back to its shareholders, and what it can do with its $137 billion across the next year.

How will Apple use its cash?Simply put, as companies generate operating cash flow, they have five main options for how to use it.

Spend it on capital expenditures.

Use it for acquisitions.

Return the money to shareholders as a dividend.

Buy back their own shares.

Hoard it.

Currently, Apple has been following the final option and has accumulated $137 billion that's managed by its Braeburn investment unit. How might the company attack the other four ways it can use its operating cash flow in the future?

It might shock some investors, but the company's biggest use of its operating cash is actually capital expenditures. Apple spent $9.3 billion in the past 12 months on capex and expects to see that total continue to rise across the coming year. The reason is simple: While Apple uses outsourced manufacturers such as Foxconn to build its devices, it's increasingly had to buy its own equipment for those factories to secure supply-chain stability.

Next, we look at acquisitions. There's no way around it: Most acquisitions fail. Luckily for Apple shareholders, the company isn't very acquisitive. Sure, it'll make smaller bets on interesting technologies, such as when it bought Siri or recently swallowed up fingerprint-recognition company AuthenTec, but these are smaller deals. To this day, Apple's largest acquisition in history is still believed to be its 1997 purchase of NeXT for $404 million.

Point being, as a shareholder, there's little fear that Apple will waste its money on something like Microsoft's (NASDAQ: MSFT) later abandoned $45 billion buyout offer for Yahoo! or its later completed $8.6 billion deal for Skype. Today, even after a recent rally, Yahoo! trades for $24 billion, which helps illustrate the dubiousness of the deal.

That leaves us to examine dividends and share repurchases.

How Apple's dividends stack upApple first announced its dividend on March 19 of last year. The company announced a dividend of $2.65 per quarter, with those dividends beginning in Apple's September quarter. Along with its dividends, Apple announced a $10 billion share-repurchase program that started last quarter. With these two programs combined, Apple anticipated returning $45 billion to shareholders across three years' time.

At the time of Apple's dividend announcement, it was a solid step in the right direction, but nothing groundbreaking. Apple's dividend of $10.60 per year was about a 1.8% yield of its then-share price of $595 per share. As Apple's share price has dropped, its yield has risen, though it still trails many big-tech peers.

Source: S&P CapitalIQ. Payout ratio is trailing net income divided by annual dividend rate. *Microsoft took a $6 billion impairment of goodwill in the past year. Without that impairment, its payout ratio would be closer to 35%

Apple's absolute amount of dividend payments trumps its big tech peers aside from Google, a company that has yet to institute a dividend of any kind. Because of Apple's significantly larger market cap than other tech companies, its dividend yield is much smaller. With only a 24% payout ratio, there's plenty of room left for the company to increase its payouts.

Are share repurchases the way to go?Other than dividends, the other part of Apple's announced $45 billion plan to return capital to shareholders was a $10 billion share-repurchase program. If used correctly, share repurchases can be an effective tool.

The problem with Apple's repurchase program is that it simply isn't significant enough. If averaged over three years, the repurchase program buys back $3.3 billion per year. That's about 7.5 million out of Apple's existing 939.1 million shares outstanding.

However, Apple awarded $1.7 billion in stock-based compensation last fiscal year. That number surged from the $879 million Apple awarded in fiscal 2010. Apple still pays much less in stock-based compensation than a competitor such as Microsoft or Google. (Google has recorded $2.7 billion worth of stock-based compensation in the past year.)

Apple itself noted this situation in commencing its repurchase plan, noting its "primary objective of neutralizing the impact of dilution from future employee equity grants and employee stock purchase programs."

More repurchases on the wayThe problem with Apple's announcement of its dividend and repurchase program was that the company set the timeframe over too long a period. If Apple held free cash flow around $50 billion over the coming three years and paid out its full announced $45 billion in dividends and share repurchases, it'd have more than $250 billion in the bank.

Apple surely realizes this coming "problem," however, and I think an astute investor would realize the company is already taking steps in the direction of upping its share-repurchase commitments, even if CFO Peter Oppenheimer has maintained that the company is comfortable with its current $45 billion commitment for the time being.

Consider:

Last quarter, the first quarter of Apple's $10 billion repurchase program, the company spent $1.95 billion in repurchases. That's already 20% of the purchase commitment in a single quarter. Front-loading repurchases in this fashion seems to indicate that the company will quickly blow through its $10 billion in repurchase commitments.

In giving guidance for the coming quarter, Apple used almost every metric necessary to come up with its earnings per share (EPS) -- revenues, gross margins, operating expenses, the amount of interest its cash will collect, and a tax rate. Yet despite this trail of bread crumbs leading to its EPS, Apple didn't give an EPS. The only major area needed to calculate EPS that Apple didn't give is its share count. Simply put, Apple seems undecided on how many shares it'll purchase in the upcoming quarter.

If Apple was undecided on how to use its repurchase program, the 14% selloff post-earnings gives it a perfect window of opportunity. While Apple has never exactly been nimble when it comes to its cash management, it now has an opportunity to rebuy its own shares at less than 10 times earnings.

Consider that Microsoft has been aggressively repurchasing its stock across the past decade, with little to show for it. However, it predominantly did so when the company wasn't cheap. Microsoft purchased an astounding $27.6 billion of its stock in fiscal 2007, a year when its average P/E was between 22 and 23 times earnings. The surest way to burn a cash hoard is to buy back a company's overpriced stock.

If Apple were to accelerate its share-repurchase program, it'd avoid the trap of past companies. It wouldn't start aggressively buying when the company was at 20 times earnings or more; it'd be when Apple was at a P/E of around 10 or less.

No discussion of Apple's cash hoard would be complete without noting that $94 billion of its cash is held overseas and subject to additional repatriation taxes if the company wants to get more aggressive about returning capital. Yet with Apple still getting about 40% of its sales from the United States, that could leave about $20 billion a year in cash flow from America alone. Given that Apple currently spends only about $13 billion a year between dividends and share repurchases, the path forward looks clear.

It's time for Apple to get off its wallet and start being more strategic repurchasing its shares. Let's hope the initial signs from the company lead to the right decision: increasing its share repurchase allocation and getting more strategic with its cash.

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While the stock continues to drop and they fail to launch anything that consumers want, they can buy shares but they are too stupid to do even that. Now most of the money is off shore and usless so who really cares if they don't have products to sell?

From the article: "Yet with a very slight decline in earnings per share last quarter..."

Note to Eric Bleeker: It is well known, but not widely reported by the hoard of pseudo-experts like yourself, that the recent quarter Apple reported is one week shorter than the one last year. Adjusted for the difference for the length of the quarter, Apple's earnings per share for the latest quarter were up 7% year over year.

Is my math bad? 10 billion buyback, 10 billion for dividends 3 years = 40 billion...am I the only one on the planet who assumes the other 5 billion is for implied increases in the dividend? I mean if Apple started a dividend and then didnt increase it with its cash flow I think it might be worse than not starting one at all.

As for the EPS for next quarter, given the minimal impact of buying back even 10 million shares, I'm left with the sinking feeling they just didnt want to put the fact EPS was going to drop by 12-15% YoY in black and white. I know people are now clinging to the hope they will buy back 50 billion in stock...if they barely were willing to cough up 10 billion over 3 years I find it extremely unlikely they would suddenly quadruple that amount because of a drop in share price.

Either way it is fun to speculate, but I'm looking for a 15% dividend increase in March (would really like 25% to get it over 3%, but think they budgeted for 15% as over 3 years that would be right around 5 billion) and perhaps a 5 billion dollar increase in the share buyback plan. If they do announce some ridiculous buyback plan prior to Cook selling this years round of shares I will be a seller as well since I would then assume they really only care about sellers and not investors.

Apple doesn't 'hoard' cash. Most of it is invested in 'marketable securites', very little cash just seating around. And out of that cash, just a small part is in the US, most of it offshore...

Also im getting tired of all the silly hedgies poping their heads on CNBC asking for a dividend, it doesn't make any sense. What would you do with a dividend?? Take the money and invest it in one of their hedge funds, to get nothing. I'd reather have Tim Cook invest the money then karen finerman or the other clowns on tv.

If you think aquisitions are great way to spend the cash, just look at HPQ. 40 bil down the toilet, the Hurd guy was an imbecil, he kept talking about eps... dude you spend 40 billion to grow eps by a couple of pennies...and you poked that marketing assistant and didn't even have the decency to pay for your hotel room, the company paid for it? out of eps, lol...

One has to have faith in the Apple management and also realize that this last quarter was very good inspite of several obstacles such as supply difficulties and initial quality problems to overcome as well as a thirteenth week versus last years 14th week.

Once I looked over the numbers, my decision was made to hang in with Apple. I cannot thik of a better place to have my investment which is 50% of my portfolio.

Apple has done an admirable job of product innovation, development, manufacturing, marketing and sales up to this point. They have a lot of talent to do those things. There does not appear to be as much faith in their talent to operate a public company. Stock price is as much perception as it is numbers. Apple is asleep at the switch when reporting their numbers by doing little else to excite investors and leaving the feeling they are stale.

"Apple's slowing innovation is a good thing - there are nothing for others to copy!"

Was it on fool... I forgot, but I see there's truth in it.

With all seriousness, the current noise is way over-blown. Be that earning miss, or no "new" innovation, this still is a damn well run, profitable company with incredible low p/e. I'm backing up my truck as I type.

Buy Nintendo and get into the video game market. Apple could make a killing on just the systems alone. If people are willing to pay a markup for their phones and iPads already, Apple could easily sell a $300 system for $600 or more. Integrate current App Store games into the system along with its own video games.